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Review of Quantitative Finance and Accounting

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07-06-2017 | Original Research

The pricing of common exchange rate factors in the U.S. equity market

Author: Ding Du

Published in: Review of Quantitative Finance and Accounting | Issue 3/2018

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Abstract

We extend Lustig et al. (Rev Financ Stud 24:3731–3777, 2011) and Brusa et al. (The International CAPM Redux, 2014) by examining if the common exchange rate factors, the dollar and carry factors, are priced in the US equity market. Our results suggest that while the carry factor has incremental pricing information relative to the US market factor, the dollar factor (or the trade-weighted exchange rate index) is redundant. Our results have important theoretical as well as practical implications. Theoretically, we suggest that financial economists take an endogenous perspective of exchange rates. Practically, we suggest that practitioners incorporate in the carry factor to measure the exposure of exchange rate risk.

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Das et al. (2013) show that the currency carry trade may be a viable alternative asset class in the asset allocation decision.

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Using alternative lags (e.g., the automatic lag selection method of Newey and West (1994)) produces similar results.

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Title: The pricing of common exchange rate factors in the U.S. equity market
Author: Ding Du
Publication date: 07-06-2017
Publisher: Springer US
Published in: Review of Quantitative Finance and Accounting / Issue 3/2018
Print ISSN: 0924-865X
Electronic ISSN: 1573-7179
DOI: https://doi.org/10.1007/s11156-017-0646-9

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